How to Find Defensive Stocks When the Usual Suspects are Over-Priced

by Dee GillOctober 09, 2012

With markets looking a little weak in the near future, you’re probably thinking about picking up some defensive stocks to help stabilize the portfolio. Just remember you’re not the only one with this idea. Here’s what’s become of some of the more perennial defensive stocks have done in recent weeks -- Procter & Gamble (PG), Exxon (XOM), ConAgra (CAG), Visa (V) and Pfizer (PFE). Here's evidence in a stock chart.

There are several reasons for today’s popularity of defensives; those big, steady, dividend-paying shares investors want when they fear the market is overbought and about to get rough. First, the earnings season underway now sounds a little downbeat. Analysts expect overall earnings declines for the first time in three years. Secondly, the good news from Europe, such as it was, is over for now. Also, QE3, the Federal Reserve action investors loved to anticipate with little buying sprees, is a done deal now. Put these issues against the good gains the market has seen in the past 12 months and you get a lot of interest in defensives.

In fact, that run has been so good that some of the go-to stocks for defensive plays are getting sold now because they look expensive. Take utilities, the uber-defensives. They’re going down now after their share prices ramped up beyond ordinary valuations for them, as YCharts’ Carla Fried reported.

So what’s still on the table for a value investor looking for defense? We set up the YChart Stock Screener to help us look for prospects in companies selling essentials or cheap diversions. We set the screener to find big market caps, decent dividends and reasonable price earnings ratios. Here are a couple of ideas from that list; one conventional, the other…not so much.

McDonald’s has produced some frowns on Wall Street this year as it turned out same-store-sales figures ever so slightly below analysts’ forecasts and warned that, yes, it really is going to be hard to sell a whole lot more burgers in China and Europe this year.

But no one really believes McDonald’s is about to hit seriously hard times. Its share price is still up 14% this year. That’s largely because charting McDonald’s returns paints a picture of just what investors want in a defensive stock: a company whose share price can grow even as the rest of the market goes to hell.

With a PE ratio of about 17 now, McDonald’s shares aren’t cheap or particularly expensive. A 3.4% dividend yield – which is in the top half of those for mega caps these days -- makes the price more palatable.

People drink beer in good times and bad, and Molson Coors sells some of the cheapest and most popular brands around. (Including Coors Light and Miller Light.) The company also has shares that are selling for barely two-thirds the valuation of competitors Anheuser-Busch Inbev (BUD) and Boston Beer (SAM).

Alas, there’s a reason Molson is cheap. Unlike those competitors, which have grown sales and profit margins by developing craft beers and going into emerging markets, Molson has little exposure to either. It sells an abundance of cheap brew largely in North America and Europe. Molson put itself in the game in June with the purchase of StarBev, a big European brewer whose holdings include operations in the faster-growing East Europe countries. But analysts are worried that profit margins might shrink even so. The shares are awash in hold recommendations.

Still, someone out there is seeing potential in this company – shares are up about 9% in the past six months – and it’s probably someone looking for security. Molson offers a 2.9% dividend yield on a dividend that’s offered steady growth for a long time.